Many workers aim to retire early, whether so they can travel, spend more time with family, or simple escape the grind that's been making them miserable for years. But retiring early is a risky prospect, because if you don't plan well enough or save well enough for it, you could wind up cash-strapped and miserable. And when you leave the workforce well ahead of your peers, you limit your savings window tremendously.
But a shorter period of time to build a nest egg isn't the only financial hiccup you might encounter as a result of early retirement. Depending on your circumstances, your Social Security benefits might take a large hit, too. And if you're counting on those benefits to stay afloat in retirement, that's a risk you may want to take steps to mitigate.
How retiring early affects your Social Security income
Your Social Security benefits are calculating by taking your 35 highest-paid years of earnings, adjusting your wages for inflation, and then applying a special formula to determine how much money you're entitled to each month during retirement. You can then begin collecting those benefits as early as age 62, though you won't be entitled to your full monthly benefit until you reach full retirement age. That age is either 66, 67, or somewhere in between, depending on when you were born.
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Here's how retiring early comes in play: If you leave the workforce prematurely enough, you may not manage to work a full 35 years. If that happens, then for each year you don't have an income on record, the Social Security Administration will factor a $0 into your benefits equation, thereby lowering the amount you're eligible to collect once you retire.
Furthermore, if you retire early, you may find yourself in a situation where you need to claim Social Security early. And that could prove problematic, because your benefits will take a hit for each month you file ahead of full retirement age. The exact reduction in benefits you face will depend on how early you claim them, but if your full retirement age is 67 and you file for Social Security at 62, you'll be looking at a 30% hit on your benefits -- for life.
Therefore, if you're going to retire early, it pays to wait until you have at least 35 years of work under your belt. At the same time, aim to close out your career with adequate savings so that if you want the option to hold off on Social Security until full retirement age, it's on the table. That way, you won't reduce a major income stream on a permanent basis.
Remember, you never know how your senior living expenses will evolve as you age. You might have a relatively easy time covering your expenses during your 60s, when your health is still reasonably strong and your home is still in decent shape. Things could end up looking very different a decade later, however, as your health declines and your home starts to need major repairs. If you make a point to avoid a substantial reduction in Social Security benefits, you'll have more options for dealing with these and other financial unknowns as they arise.
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